This paper examines how governance and risk management affect risk-taking in banks. It distinguishes between good risks, which are risks that have an ex ante private reward for the bank on a stand-alone basis, and bad risks, which do not have such a reward. A well-governed bank takes the amount of risk that maximizes shareholder wealth subject to constraints imposed by laws and regulators.
In general, this involves eliminating or mitigating all bad risks to the extent that it is cost effective to do so. The role of risk management in such a bank is not to reduce the bank?s total risk per se. It is to identify and measure the risks the bank is taking, aggregate these risks in a measure of the bank?s total risk, enable the bank to eliminate, mitigate and avoid bad risks, and ensure that its risk level is consistent with its risk appetite. Organizing the risk management function so that it plays that role is challenging because there are limitations in measuring risk and because, while more detailed rules can prevent destructive risk-taking, they also limit the
flexibility of an institution in taking advantage of opportunities that increase firm value. Limitations of risk measurement and the decentralized nature of risk-taking imply that setting appropriate incentives for risk-takers and promoting an appropriate risk culture are essential to the success of risk management in performing its function.
This paper quantifies the cost of CEO incentive compensation by estimating an elasticity of pay to the variance of pay. Using US CEO compensation data and a variety of empirical approaches, we find that CEOs with riskier pay packages are paid...Read more
Potential conficts of interest arise when IPO underwriters allocate IPO shares to their affiliated funds. We hypothesize that such nepotism incentives affect IPO pricing. Using a novel hand-collected dataset, we find support for this hypothesis...Read more
As FinTech promises to increase competition for both banks and investment firms, we consider the market failures that emerge from its existence, particularly as they relate to issues of financial stability and investor protection. This chapter...Read more
We investigate the impact on firms of joining the S&P 500 index from 1997 to 2017. We find that the positive announcement effect on the stock price of index inclusion has disappeared and the long-run impact of index inclusion has become...Read more