Job market paper
The Cost of Financial Mistakes: Evidence from U.S. Consumers
This paper investigates the relationship between financial mistakes and lack of consumption smoothing, using transaction-level data from a million U.S. consumers. I first document that simple and avoidable card fees are pervasive and persistent. Avoidable fees correlate with lower account optimization, lower participation in risky asset markets, and lower mortgage refinancing. I measure the marginal propensity to consume using an event study of mortgage payment resets and a difference-in-differences methodology. Consumers with a history of frequent financial mistakes display low consumption smoothing out of predictable increases in debt payments, counter to models with rational borrowing constraints. Guided by these results, I compare different economic mechanisms that link financial mistakes and lack of consumption smoothing: the evidence is more supportive of financial ignorance rather than rational information inattention. A calibrated model of financial ignorance indicates that for the 10% of consumers who make the most mistakes, the welfare loss amounts to $1,740 per year, equivalent to 8% of median annual non-durable consumption.
Sharing R&D Risk in Healthcare via FDA Hedges, NBER Working Paper No. 23344
Joint with Andrew W. Lo, Tomas Philipson, Manita Singh, and Richard Thakor
Media: Marginal Revolution, Forbes, RAPS
Abstract: The high cost of capital for firms conducting medical research and development (R&D) has been partly attributed to the government risk facing investors in medical innovation. This risk slows down medical innovation because investors must be compensated for it. We analyze new and simple financial instruments, Food and Drug Administration (FDA) hedges, to allow medical R&D investors to better share the pipeline risk associated with FDA approval with broader capital markets. Using historical FDA approval data, we discuss the pricing of FDA hedges and mechanisms under which they can be traded and estimate issuer returns from offering them. Using various unique data sources, we find that FDA approval risk has a low correlation across drug classes as well as with other assets and the overall market. We argue that this zero-beta property of scientific FDA risk could be a main source of gains from trade between issuers of FDA hedges looking for diversified investments and developers looking to offload the FDA approval risk. We offer proof of concept of the feasibility of trading this type of pipeline risk by examining related securities issued around mergers and acquisitions activity in the drug industry. Overall, our argument is that, by allowing better risk sharing between those investing in medical innovation and capital markets more generally, FDA hedges could ultimately spur medical innovation and improve the health of patients.
Does Competition Reduce Racial Discrimination in Lending?
Joint with Greg Buchak
Abstract: This paper examines whether increases in bank competition reduce discriminatory practices in mortgage lending. Lenders are significantly less likely to approve black applicants' loan applications despite facing similar credit risk. However, following the relaxation of interstate bank branching laws in the 1990s, increases in local lending competition reduced the approval differential between potential white and black borrowers by roughly one quarter. The reduction was driven both by incumbent lenders altering lending policies to avoid losing market share and by the entry of new banks. The results suggest strong complementarities between direct regulation and the competition mechanism. In particular, direct regulation is effective against large lenders where statistical proof problems are less severe, while competition provides incentives to smaller, harder to regulate lenders.
Competing and Advertising for Financial Products: Evidence from Television Ads
Joint with Gregor Matvos and Amit Seru
Abstract: We study television advertisements from financial firms using novel data on the landscape of all U.S. television advertisements. The market for television advertisement is highly competitive, and the price variation is almost entirely explained by number of viewers and a few demographic characteristics. The price per viewer impression increases when viewers are younger, wealthier, have longer educations, and when there are fewer minority viewers. We use a simple model of advertisement and consumer demand to decompose the valuation of different demographic segments. On average, we find financial firms advertise broadly towards the entire population. However, credit card companies, mortgage companies and loan companies target poorer viewers and minorities, and their valuation of a viewer is decreasing in income. These effects are strongest in markets with low competition.