mishkin ppt ch08

8/18/2019 Mishkin PPT Ch08

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Copyright © 2010 Pearson Addison-Wesley. All rights reserved.

Chapter 8

An EconomicAnalysis of

FinancialStructure


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FIGURE 1 Sources of External Funds forNonfinancial Businesses: A Comparison of the UnitedStates with Germany, apan, and Canada

Source: Andreas !ac"ethal and #einhard !$ Schmidt, %Financin& 'atterns: (easurement Concepts andEmpirical #esults,) ohann *olf&an& Goethe+Uniersitat *or"in& 'aper No$ -./, anuary .001$ 2he dataare from -3405.000 and are &ross flows as percenta&e of the total, not includin& trade and other credit

data, which are not aaila6le$


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Eight Basic Facts

-$ Stoc"s are not the most important sources ofexternal financin& for 6usinesses

.$ 7ssuin& mar"eta6le de6t and e8uity securities is

not the primary way in which 6usinesses financetheir operations

9$ 7ndirect finance is many times more importantthan direct finance

1$ Financial intermediaries, particularly 6an"s, arethe most important source of external funds usedto finance 6usinesses$


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Eight Basic Facts (cont!"

/$ 2he financial system is amon& the most heailyre&ulated sectors of the economy

$ ;nly lar&e, well+esta6lished corporations haeeasy access to securities mar"ets to finance theiractiities

4$ Collateral is a prealent feature of de6t contractsfor 6oth households and 6usinesses$


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#ransaction Costs

> Financial intermediaries hae eoled toreduce transaction costs

5 Economies of scale

5 Expertise


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Asymmetric Information

> Aderse selection occurs 6efore thetransaction

> (oral ha?ard arises after the transaction

> A&ency theory analyses how asymmetricinformation pro6lems affect economic6ehaior


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A!$erse Selection% Solutions

> 'riate production and sale of information5 Free+rider pro6lem

> Goernment re&ulation to increase information5 Not always wor"s to sole the aderse selection pro6lem,

explains Fact /$

> Financial intermediation5 Explains facts 9, 1, @ $

> Collateral and net worth

5 Explains fact 4$


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)oral *a+ar! in E,uityContracts

> Called the 'rincipal+A&ent 'ro6lem

5 'rincipal: less information stoc"holder

5 A&ent: more information mana&er

> Separation of ownership and controlof the firm

5 (ana&ers pursue personal 6enefits and powerrather than the profita6ility of the firm


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'rincipal-Agent 'rolem%Solutions

> (onitorin& Costly State erification

5 Free+rider pro6lem

5 Fact -

> Goernment re&ulation to increase information5 Fact /

> Financial 7ntermediation

5 Fact 9

> =e6t Contracts

5 Fact -



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)oral *a+ar! in .et)ar/ets

> Borrowers hae incenties to ta"e onproDects that are ris"ier than the lenderswould li"e$

5 2his preents the 6orrower from payin& 6ac" theloan$



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)oral *a+ar!% Solutions

> Net worth and collateral5 7ncentie compati6le

> (onitorin& and Enforcement of #estrictie

Coenants5 =iscoura&e undesira6le 6ehaior

5 Encoura&e desira6le 6ehaior

5 eep collateral alua6le

5 'roide information

> Financial 7ntermediation5 Facts 9 @ 1



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Summary #ale 1 Asymmetric 7nformation'ro6lems and 2ools to Sole 2hem



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Asymmetric Information in #ransitionan! .e$eloping Countries

> %Financial repression) created 6y aninstitutional enironment characteri?ed 6y:5 'oor system of property ri&hts una6le to use

collateral efficiently

5 'oor le&al system difficult for lenders to enforcerestrictie coenants

5 *ea" accountin& standards less access to &oodinformation

5 Goernment interention throu&h directed creditpro&rams and state owned 6an"s less incentieto proper channel funds to its most productieuse$


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Conflicts of Interest

> 2ype of moral ha?ard pro6lem caused 6y economiesof scope applyin& one information resource tomany different serices$

> Arise when an institution has multiple o6Dectiesand, as a result, has conflicts 6etween thoseo6Decties

> A reduction in the 8uality of information in financial

mar"ets increases asymmetric information pro6lems

> Financial mar"ets do not channel funds intoproductie inestment opportunities


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0hy .o Conflicts of InterestArise

> Underwritin& and #esearch in 7nestmentBan"in&

5 7nformation produced 6y researchin& companies is used

to underwrite the securities issued 6y the samecompanies$ 2he 6an" is attemptin& to simultaneouslysere two client &roups whose information needs differ$

5 Spinnin& occurs when an inestment 6an" allocates hot,6ut underpriced, 7';s to executies of other companies in

return for their companies future 6usiness$


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0hy .o Conflicts of InterestArise (cont!"

> Auditin& and Consultin& in Accountin& Firms

5 Auditors may 6e willin& to s"ew their Dud&mentsand opinions to win consultin& 6usiness$

5 Auditors may 6e auditin& information systems ortax and financial plans put in place 6y theirnonaudit counterparts within the firm$

5 Auditors may proide an oerly faora6le audit tosolicit or retain audit 6usiness$


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0hy .o Conflicts of InterestArise (cont!"

> Auditin& and Consultin& in Credit+#atin& Firms

> Conflicts of interest can arise when:

5 (ultiple users with dier&ent interests depend on thecredit ratin&s inestors and re&ulators s$ security

issuers$5 Credit+ratin& a&encies also proide ancillary consultin&

serices e$&$ adise on de6t structure$

> 2he potential decline in the 8uality of informationne&atiely affects the performance of financialmar"ets$


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Conflicts of Interest%Reme!ies

> Sar6anes+;xley Act of .00. 'u6licAccountin& #eturn and 7nestor 'rotectionAct increased superisory oersi&ht to

monitor and preent conflicts of interest5 Esta6lished a 'u6lic Company Accountin&

;ersi&ht Board

5 7ncreased the SECs 6ud&et

5 (ade it ille&al for a re&istered pu6lic accountin&firm to proide any nonaudit serice to a clientcontemporaneously with an impermissi6le audit


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Conflicts of Interest%Reme!ies (cont!"

> Sar6anes+;xley Act of .00. contd

5 Beefed up criminal char&es for white+collar crimeand o6struction of official inesti&ations

5 #e8uired the CE; and CF; to certify thatfinancial statements and disclosures are accurate

5 #e8uired mem6ers of the audit committee to 6eindependent


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Conflicts of Interest%Reme!ies (cont!"

> Glo6al e&al Settlement of .00.5 #e8uired inestment 6an"s to seer the lin"

6etween research and securities underwritin&

5 Banned spinnin&

5 7mposed H-$1 6illion in fines on accusedinestment 6an"s

5 #e8uired inestment 6an"s to ma"e theiranalysts recommendations pu6lic

5 ;er a /+year period, inestment 6an"s werere8uired to contract with at least 9 independentresearch firms that would proide research totheir 6ro"era&e customers$

mishkin ppt ch08

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