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Abstract:
We investigate the relative importance of the twenty-four provisions followed by the Investor Responsibility Research Center (IRRC) and included in the Gompers, Ishii, and Metrick governance index (Gompers, Ishii, and Metrick 2003). We put forward an entrenchment index based on six provisions: staggered boards, limits to shareholder bylaw amendments, poison pills, golden parachutes, and supermajority requirements for mergers and charter amendments. We find that increases in the index level are monotonically associated with economically significant reductions in firm valuation as well as large negative abnormal returns during the 1990-2003 period. The other eighteen IRRC provisions not in our entrenchment index were uncorrelated with either reduced firm valuation or negative abnormal returns.

G30, G34, K22

Abstract:
We investigate which provisions, among a set of twenty-four governance provisions followed by the Investor Responsibility Research Center (IRRC), are correlated with firm value and stockholder returns. Based on this analysis, we put forward an entrenchment index based on six provisions - four constitutional provisions that prevent a majority of shareholders from having their way (staggered boards, limits to shareholder bylaw amendments, supermajority requirements for mergers, and supermajority requirements for charter amendments), and two takeover readiness provisions that boards put in place to be ready for a hostile takeover (poison pills and golden parachutes). We find that increases in the level of this index are monotonically associated with economically significant reductions in firm valuation, as measured by Tobin's Q. We present suggestive evidence that the entrenching provisions cause lower firm valuation. We also find that firms with higher levels of the entrenchment index were associated with large negative abnormal returns during the 1990-2003 period. Moreover, examining all sub-periods of two or more years within this period, we find that a strategy of buying low entrenchment firms and selling short high entrenchment firms out-performs the market in most such periods and does not under-perform the market even in a single sub-period. Finally, we find that the provisions in our entrenchment index fully drive the correlation, identified by prior work, that the IRRC provisions in the aggregate have with reduced firm value and lower stock returns during the 1990s; we do not find any evidence that the other eighteen IRRC provisions are negatively correlated with either firm value or stock returns during the 1990-2003 period.

Data on the entrenchment index for the period 1990-2007, and a list of over seventy-five studies using our entrenchment index, is available for downloading at Lucian Bebchuk's home page.

Corporate governance, agency costs, boards, directors, takeovers, tender offers, mergers and acquisitions, proxy fights, defensive tactics, entrenchment, anti-takeover provisions, staggered boards, corporate charters, corporate bylaws, golden parachutes, poison pills

Abstract:
This paper empirically investigates the decisions of publicly traded firms where to incorporate. We study the features of states that make them attractive to incorporating firms and the characteristics of firms that determine whether they incorporate in or out of their state of location. We find that states that offer stronger antitakeover protections are substantially more successful both in retaining in-state firms and in attracting out-of-state incorporations. We estimate that, compared with adopting no antitakeover statutes, adopting all standard antitakeover statutes enabled the states that adopted them to more than double the percentage of local firms that incorporated in-state (from 23% to 49%). Indeed, the incorporation market has not even penalized the three states that passed two extreme antitakeover statutes that have been widely viewed as detrimental to shareholders. We also find that there is commonly a big difference between a state's ability to attract incorporations from firms located in and out of the state, and we investigate several possible explanations for this home-state advantage. Finally, we find that Delaware's dominance is greater than has been recognized and can be expected to increase further in the future. Our findings have significant implications for corporate governance, regulatory competition, and takeover law.

Institutional subscribers to the NBER working paper series, and residents of developing countries may download this paper without additional charge at www.nber.org.

Abstract:
This paper empirically investigates the decisions of publicly traded firms where to incorporate. We study the features of states that make them attractive to incorporating firms and the characteristics of firms that determine whether they incorporate in or out of their state of location. We find that states that offer stronger antitakeover protections are substantially more successful both in retaining in-state firms and in attracting out-of-state incorporations. We estimate that, compared with adopting no antitakeover statutes, adopting all standard antitakeover statutes enabled the states that adopted them to more than double the percentage of local firms that incorporated in-state (from 23% to 49%). Indeed, we find no evidence that the incorporation market has even penalized the three states that passed antitakeover statutes widely viewed as detrimental to shareholders. We also find that there is commonly a big difference between a state's ability to attract incorporations from firms located in and out of the state, and we investigate several possible explanations for this home-state advantage. Our findings have significant implications for corporate governance, regulatory competition, and takeover law.

The data on which this paper is based is available for downloading at Lucian Bebchuk's home page.

Delaware, incorporation, corporate governance, regulatory competition, managers, shareholders, takeovers, antitakeover statutes, antitakeover defenses, home bias

Abstract:
This paper investigates empirically how the value of publicly traded firms is overall affected by arrangements protecting management from removal. A majority of U.S. public companies have staggered boards that substantially insulate the board from removal via a hostile takeover or a proxy contest. We find that staggered boards are associated with an economically significant reduction in firm value (as measured by Tobin's Q). We also find evidence consistent with staggered boards' bringing about, and not merely reflecting, a lower firm value. Finally, the correlation with reduced firm value is stronger for staggered boards established in the corporate charter (which shareholders cannot amend) than for staggered boards established in the company's bylaws (which can be amended by shareholders).

Abstract:
This paper investigates empirically how the value of publicly traded firms is affected by arrangements that protect management from removal. Staggered boards, which a majority of U.S. public companies have, substantially insulate boards from removal in either a hostile takeover or a proxy contest. We find that staggered boards are associated with an economically meaningful reduction in firm value (as measured by Tobin's Q). We also provide suggestive evidence that staggered boards bring about, and not merely reflect, an economically significant reduction in firm value. Finally, the correlation with reduced firm value is stronger for staggered boards that are established in the corporate charter (which shareholders cannot amend) than for staggered boards established in the company's bylaws (which shareholders can amend).

The data on which this paper is based is available for downloading at Lucian Bebchuk's home page.

Corporate governance, Tobin's Q, firm value, agency costs, boards, directors, takeovers, tender offers, mergers and acquisitions, proxy fights, defensive tactics, antitakeover provisions, staggered boards, poison pills

Abstract:
The standard narrative of the meltdown of Bear Stearns and Lehman Brothers assumes that the wealth of the top executives of these firms was largely wiped out along with their firms. In the ongoing debate about regulatory responses to the financial crisis, commentators have used this assumed fact as a basis for dismissing both the role of compensation structures in inducing risk-taking and the potential value of reforming such structures. This paper provides a case study of compensation at Bear Stearns and Lehman during 2000-2008 and concludes that this assumed fact is incorrect.

We find that the top-five executive teams of these firms cashed out large amounts of performance-based compensation during the 2000-2008 period. During this period, they were able to cash out large amounts of bonus compensation that was not clawed back when the firms collapsed, as well as to pocket large amounts from selling shares. Overall, we estimate that the top executive teams of Bear Stearns and Lehman Brothers derived cash flows of about $1.4 billion and $1 billion respectively from cash bonuses and equity sales during 2000-2008. These cash flows substantially exceeded the value of the executives’ initial holdings in the beginning of the period, and the executives’ net payoffs for the period were thus decidedly positive. The divergence between how the top executives and their shareholders fared implies that it is not possible to rule out, as standard narratives suggest, that the executives’ pay arrangements provided them with excessive risk-taking incentives. We discuss the implications of our analysis for understanding the possible role that pay arrangements have played in the run-up to the financial crisis and how they should be reformed going forward.

Lehman Brothers, Bear Stearns, the financial crisis, banks, executive compensation, risk-taking, compensation structures, bonus compensation, stock options, restricted shares, moral hazard

Abstract:
In the ongoing debate on state competition over corporate charters, supporters of state competition have long claimed that the empirical evidence clearly supports their view. This paper suggests that the body of empirical evidence on which supporters of state competition have relied does not warrant this claim. The paper first demonstrates that reported findings of a positive correlation between incorporation in Delaware and increased shareholder wealth are not robust and, furthermore, do not establish causation. The paper then shows that, even if Delaware incorporation were found to cause an increase in shareholder value, this finding would not imply that state competition is working well; benefits to incorporating in the dominant state would likely exist in a race-toward-the bottom' equilibrium in which state competition provided undesirable incentives. Third, the analysis shows that empirical claims that state competition rewards moderation in the provision of antitakeover protections are not well grounded. Finally, we endorse a new approach to the empirical study of the subject that is based on analyzing the determinants of companies' choices of state of incorporation. Recent work based on this approach indicates that, contrary to the beliefs of state competition supporters, states that amass antitakeover statutes are more successful in the incorporation market.

Institutional subscribers to the NBER working paper series, and residents of developing countries may download this paper without additional charge at www.nber.org.

Abstract:
In the ongoing debate on state competition over corporate charters supporters of state competition have long claimed that the empirical evidence clearly supports their view. This article shows, however, that the body of empirical evidence on which supporters of state competition have relied does not warrant this claim. This empirical evidence, we argue, is in fact entirely consistent with the opposing view that state competition provides undesirable incentives with respect to corporate issues, such as takeover regulation, that substantially affect managers' private benefits.

We first show that reported findings of a positive correlation between incorporation in Delaware and increased shareholder wealth are not robust and are much more mixed and ambiguous than has been recognized. Furthermore, we argue that the presence of such causation would in any event not establish that Delaware incorporation increases value rather than simply chosen by higher value companies.

We next show that, even if Delaware incorporation were found to cause an increase in shareholder value, this finding would not imply that state competition is working well; benefits to incorporating in the dominant state would likely exist in a "race-toward-the-bottom" equilibrium in which state competition provides undesirable incentives. Finally, we show that empirical claims that state competition rewards moderation in the provision of antitakeover protections are not well grounded.

We conclude by endorsing a new approach to the empirical study of the subject that is based on analyzing the determinants of companies' choices of state of incorporation. Recent work based on this approach indicates that, contrary to the beliefs of state competition supporters, states that amass antitakeover statutes are more successful in the incorporation market.

Delaware, incorporations, corporate charters, regulatory competition, corporate governance, managers, shareholders, takeovers, antitakeover statutes

Abstract:
This paper tests the predictions of adverse selection models using data from the automobile insurance market. I find that, in contrast to what recent research has suggested, the evidence is consistent with the presence of informational asymmetries in this market: new customers choosing higher insurance coverage are associated with more accidents. Consistent with the presence of learning by policyholders about their risk type, such a coverage-accident correlation exists only for policyholders with three or more years of driving experience prior to joining their insurer. The informational advantage that new customers with driving experience have over the insurer appears to arise in part from under-reporting of past claim history. I find evidence that policyholders switching to new insurers are disproportionately ones with a poor claims history and that new customers under-report their past claims history when joining a new insurer.

Asymmetric information, adverse selection, screening, sorting, moral hazard, insurance, deductible, learning, information transmission, repeat customers

Abstract:
This paper investigates the effects of mandatory seat belt laws on driver behavior and traffic fatalities. Using a unique panel data set on seat belt usage rates in all U.S. jurisdictions, we analyze how such laws, by influencing seat belt use, affect traffic fatalities. Controlling for the endogeneity of seat belt usage, we find that it decreases overall traffic fatalities. The magnitude of this effect, however, is significantly smaller than the estimate used by the National Highway Traffic Safety Administration. Testing the compensating behavior theory, which suggests that seat belt use also has an adverse effect on fatalities by encouraging careless driving, we find that this theory is not supported by the data. Finally, we identify factors, especially the type of enforcement used, that make seat belt laws more effective in increasing seat belt usage.

Abstract:
This paper investigates the incentive effects of automobile insurance, compulsory insurance laws, and no-fault liability laws on driver behavior and traffic fatalities. We analyze a panel of 50 U.S. states and the District of Columbia from 1970-1998, a period in which many states adopted compulsory insurance regulations and/or no-fault laws. Using an instrumental variables approach, we find evidence that automobile insurance has moral hazard costs, leading to an increase in traffic fatalities. We also find that reductions in accident liability produced by no-fault liability laws have led to an increase in traffic fatalities (estimated to be on the order of 6%). Overall, our results indicate that, whatever other benefits they might produce, increases in the incidence of automobile insurance and moves to no-fault liability systems have significant negative effects on traffic fatalities.

No-fault laws, compulsory insurance, moral hazard

Abstract:
This paper investigates the incentive effects of automobile insurance, compulsory insurance laws, and no-fault liability laws on driver behavior and traffic fatalities. We analyze a panel of 50 U.S. states and the District of Columbia from 1970-1998, a period in which many states adopted compulsory insurance regulations and/or no-fault laws. Using an instrumental variables approach, we find evidence that automobile insurance has moral hazard costs, leading to an increase in traffic fatalities. We also find that reductions in accident liability produced by no-fault liability laws have led to an increase in traffic fatalities (estimated to be on the order of 6%). Overall, our results indicate that, whatever other benefits they might produce, increases in the incidence of automobile insurance and moves to no-fault liability systems have significant negative effects on traffic fatalities.

Abstract:
This paper analyzes the choice of deductible in insurance contracts that insure against a risk that, as is common, might materialize more than once during the life of the policy. As was established by Arrow (1963), from the perspective of risk-bearing costs, the optimal contract is one that uses an aggregate deductible that applies to the aggregate losses incurred over the life of the policy. Aggregate deductibles, however, are uncommon in practice. This paper identifies two disadvantages that aggregate deductibles have. Aggregate deductibles are shown to produce higher expected verification costs and moral hazard costs than contracts that apply a per-loss deductible to each loss that occurs. I further show that each of these disadvantages can make an aggregate deductible contact inferior to a contract with per loss deductibles. The results of the analysis can help explain the rare use of aggregate deductibles and, in addition, might explain why umbrella policies that cover all types of losses are rarely used.

insurance, deductible, moral hazard, verification

Abstract:
This paper analyzes the choice of deductible in insurance contracts that insure against a risk that, as is common, might materialize more than once during the life of the policy. As was established by Arrow (1963), from the perspective of risk-bearing costs, the optimal contract is one that uses an aggregate deductible that applies to the aggregate losses incurred over the life of the policy. Aggregate deductibles, however, are uncommon in practice. This paper identifies two disadvantages that aggregate deductibles have. Aggregate deductibles are shown to produce higher expected verification costs and moral hazard costs than contracts that apply a per-loss deductible to each loss that occurs. I further show that each of these disadvantages can make an aggregate deductible contact inferior to a contract with per loss deductibles. The results of the analysis can help explain the rare use of aggregate deductibles and, in addition, might explain why umbrella policies that cover all types of losses are rarely used.

insurance, deductible, moral hazard, verification

Abstract:
We estimate the distribution of risk preferences using a large data set of deductible choices in auto insurance contracts. To do so, we develop a structural econometric model of adverse selection that allows for unobserved heterogeneity in both risk (claim rate) and risk aversion. We use data on realized claims to estimate the distribution of claim rates and data on deductible and premium choices to estimate the distribution of risk aversion and how it correlates with risk. We find large heterogeneity in risk attitudes: while the majority of individuals are almost risk neutral with respect to lotteries of 100 dollar magnitude, an important fraction of the individuals exhibit significant risk aversion even with respect to such relatively small bets. The estimates imply that women are more risk averse than men, that risk aversion exhibits a U-shape with respect to age, and that most proxies for income and wealth are positively associated with absolute risk aversion. Finally, unobserved heterogeneity in risk aversion is more important than that of risk, and risk and risk aversion are positively correlated.

risk aversion, adverse selection, structural estimation, mixture models

Abstract:
We use a large data set of deductible choices in auto insurance contracts to estimate the distribution of risk preferences in our sample. To do so, we develop a structural econometric model, which accounts for adverse selection by allowing for unobserved heterogeneity in both risk (probability of an accident) and risk aversion. Ex-post claim information separately identifies the marginal distribution of risk, while the joint distribution of risk and risk aversion is identified by the deductible choice. We find that individuals in our sample have on average an estimated absolute risk aversion which is higher than other estimates found in the literature. Using annual income as a measure of wealth, we find an average two-digit coefficient of relative risk aversion. We also find that women tend to be more risk averse than men, that proxies for income and wealth are positively related to absolute risk aversion, that unobserved heterogeneity in risk preferences is higher relative to that of risk, and that unobserved risk is positively correlated with unobserved risk aversion. Finally, we use our results for counterfactual exercises that assess the profitability of insurance contracts under various assumptions.

Institutional subscribers to the NBER working paper series, and residents of developing countries may download this paper without additional charge at www.nber.org.

Abstract:
This paper tests models in which repeat contracting enables sellers to obtain market power and higher profits with respect to repeat customers. I use for this purpose a unique data base from the insurance market that enables direct measurement of sellers' profits. The evidence, I find, is consistent with sellers making higher profits on repeat customers. The evidence is also consistent with sellers gaining market power over repeat customers by learning about these customers information that competing sellers do not have.

Abstract:
This paper investigates how fertility responds to changes in the price of a marginal child and in household income. We construct a large, individual-level panel data set of married Israeli women during the period 1999–2005 that contains fertility histories and detailed controls. We exploit variation in Israel’s child subsidy program to identify changes in the price of a marginal child (using changes in the subsidy for a marginal child) and to instrument for household income (using changes in the subsidy for infra-marginal children). We find a significant and positive price effect on fertility: the mean level of marginal child subsidy produces a 7.8 percent increase in fertility. There is a positive effect within all religious and ethnic subgroups, including the ultra-Orthodox Jewish population, whose social and religious norms discourage family planning. There is also a significant price effect on fertility among women who are close to the end of their lifetime fertility, suggesting that at least part of the price effect is due to a reduction in total fertility. As expected, the child subsidy has no effect in the upper range of the income distribution. Finally, consistent with the predictions of Becker (1960) and Becker and Tomes (1976), we find that the income effect is small in magnitude and is negative at low income levels and positive at high levels.

Institutional subscribers to the NBER working paper series, and residents of developing countries may download this paper without additional charge at www.nber.org.

Abstract:
This paper investigates empirically whether financial incentives, and in particular governmental child subsidies, affect fertility. We use a comprehensive, nonpublic, individual-level panel dataset that includes fertility histories and detailed individual controls for all married Israeli women with two or more children from 1999-2005, a period with substantial variation in the level of governmental child subsidies but no changes in eligibility and coverage. We find a significant positive effect on fertility, with the mean level of child subsidies producing a 7.8 percent increase in fertility. The positive effect of child subsidies on fertility is concentrated in the bottom half of the income distribution. It is present across all religious groups, including the ultra-Orthodox Jewish population whose religious principles forbid birth control and family planning. Using a differences-in-differences specification, we find that a large, unanticipated reduction in child subsidies that occurred in 2003 had a substantial negative impact on fertility. Overall, our results support the view that fertility responds to financial incentives and indicate that the child subsidy policies used in many countries can have a significant influence on incremental fertility decisions.

fertility, child subsidies, child allowances

Abstract:
This article reviews and evaluates the empirical literature on adverse selection in insurance markets. We focus on empirical work that seeks to test the basic coverage-risk prediction of adverse selection theory - that is, that policyholders who purchase more insurance coverage tend to be riskier. The analysis of this body of work, we argue, indicates that whether such a correlation exists varies across insurance markets and pools of insurance policies. We discuss various reasons why a coverage–risk correlation may not be found in some pools of insurance policies. The presence of a coverage–risk correlation can be explained either by moral hazard or adverse selection, and we discuss methods for distinguishing between them. Finally, we review the evidence on learning by policyholders and insurers.

Abstract:
This paper reviews and evaluates the empirical literature on adverse selection in insurance markets. We focus on empirical work that seeks to test the basic coverage–risk prediction of adverse selection theory — that is, that policyholders who purchase more insurance coverage tend to be riskier. The analysis of this body of work, we argue, indicates that whether such a correlation exists varies across insurance markets and pools of insurance policies. We discuss various reasons why a coverage–risk correlation may be found in some pools of insurance policies but not in others. We also review the work on the disentangling of adverse selection and moral hazard and on learning by policyholders and insurers.

Institutional subscribers to the NBER working paper series, and residents of developing countries may download this paper without additional charge at www.nber.org.

Abstract:
This paper reviews and evaluates the empirical literature on adverse selection in insurance markets. We focus on empirical work that seeks to test the basic coverage - risk prediction of adverse selection theory - that is, that policyholders who purchase more insurance coverage tend to be riskier. The analysis of this body of work, we argue, indicates that whether such a correlation exists varies across insurance markets and pools of insurance policies. We discuss various reasons why a coverage-risk correlation may be found in some pools of insurance policies but not in others. We also review the work on the disentangling of adverse selection and moral hazard and on learning by policyholders and insurers.

Insurance, adverse selection, moral hazard, accidents, claims, annuities, automobile insurance, health insurance, life insurance, risk-aversion, risk, coverage

Abstract:
This paper studies a unique panel dataset of transactions with repeat customers of an insurer operating in a market in which insurers are not required by law or contract to share information about their customers' records. I use this dataset to test the asymmetric learning hypothesis that sellers obtain over time private information that some of their repeat customers have low risk, and that this learning enables sellers to make higher profits in transactions with these repeat customers. Consistent with this hypothesis, I find that the insurer in my dataset makes higher profits in transactions with repeat customers and that these profits are driven by transactions with repeat customers with good past claims history with the insurer; that these higher profits result from repeat customers with good claim history receiving a reduction in premiums that is lower than the reduction in expected costs associated with such customers; and that policyholders with bad claim history are more likely to flee their record by switching to other insurers.

Abstract:
This paper studies a unique panel dataset of transactions with repeat customers of an insurer operating in a market in which insurers are not required by law or contract to share information about their customers' records. I use this dataset to test the asymmetric learning hypothesis that sellers obtain over time private information that some of their repeat customers have low risk, and that this learning enables sellers to make higher profits in transactions with these repeat customers. Consistent with this hypothesis, I find that the insurer in my dataset makes higher profits in transactions with repeat customers and that these profits are driven by transactions with repeat customers with good past claims history with the insurer; that these higher profits result from repeat customers with good claim history receiving a reduction in premiums that is lower than the reduction in expected costs associated with such customers; and that policyholders with bad claim history are more likely to flee their record by switching to other insurers.

Repeat customers, asymmetric information, asymmetric learning, adverse selection, insurance, market power

Abstract:
This Paper empirically investigates the decisions of US publicly traded firms on where to incorporate. We study the features of states that make them attractive to incorporating firms and the characteristics of firms that determine whether they incorporate in or out of their state of location. We find that states that offer stronger antitakeover protections are substantially more successful both in retaining in-state firms and in attracting out-of-state incorporations. We estimate that, compared with adopting no antitakeover statutes, adopting all standard antitakeover statutes enabled the states that adopted them to more than double the percentage of local firms that incorporated in-state (from 23% to 49%). Indeed, the incorporation market has not even penalized the three states that passed two extreme antitakeover statutes that have been widely viewed as detrimental to shareholders. We also find that there is commonly a big difference between a state's ability to attract incorporations from firms located in and out of the state, and we investigate several possible explanations for this home-state advantage. Finally, we find that Delaware's dominance is greater than has been recognized and can be expected to increase further in the future. Our findings have significant implications for corporate governance, regulatory competition, and takeover law.

Delaware, incorporation, corporate governance, regulatory competition, managers, shareholders, takeovers, antitakeover statutes, antitakeover defenses, home bias

Abstract:
This paper investigates how fertility responds to changes in the price of a marginal child. We construct a large, individual-level panel data set of over 300,000 Israeli women during the period 1999–2005 with comprehensive information about their fertility histories, education, religious affiliation, ethnicity, and income. We exploit variation in Israel’s child subsidy program to identify changes in the price of a marginal child. We find a statistically significant and positive price effect on fertility: the marginal child subsidy increase the probability of pregnancy in a give year by 0.99 percentage point in our preferred specification. This positive effect is present for all religious and ethnic subgroups, including the Ultra-Orthodox Jewish population who’s social and religious norms discourage family planning. There is also a significant price effect on fertility among women who are close to the end of their lifetime fertility, suggesting that at least part of the effect that we estimate is due to a reduction in total fertility. As expected, the child subsidy has the strongest effect for households in the lower range of the income distribution, and it weakens with income. Finally, we investigate the effect that changes in the household income have on fertility choices, using the lag of the husband’s income as an instrument for the current household income. Consistent with Becker (1960) and Becker and Tomes (1976), we find that the income effect is small in magnitude and is negative at low income levels and positive at high income levels.

fertility, child subsidies, child allowances