Green Moral Hazard: Estimating the Financial and the Real Implications of CEO Incentives
Dissertation Committee: Ivan Marinovic (Chair), Maureen McNichols, and Kevin Smith

I develop a novel structural model and quantify the financial and the real implications of CEO compensation contracts with incentives tied to real, environmental outcomes. In terms of the direct tradeoff in the absence of agency friction, I find that the incentives motivate CEOs to reduce carbon emission intensity by 1.8% per year but at a financial cost of 1.3% of firm value annually. Moral hazard makes the environmental improvement even more costly. As green performance is an imperfect signal of CEOs’ actions toward green outcomes, a “green moral hazard” arises: the CEOs require a premium for the risk added by green incentives. I estimate that this green moral hazard is substantial, accounting for $1.72 million of the total moral hazard cost of $2.05 million. These results suggest that green incentives pose an important economic trade-off: while green incentives can lead to meaningful environmental improvements, they impose substantial costs on the firm.

Presentations (including scheduled): Western Finance Association Meeting, Hawai’i Accounting Research Conference, Paris December Finance Meeting, European Finance Association Annual Meeting, Conference in Sustainable Finance at the University of Luxembourg, NYU Finance Conference, Carnegie Mellon University Tepper, New York University Stern, AES Junior Accounting Theory Conference, AAA Doctoral Consortium

Moral Hazard and the Value of Information: A Structural Approach
(with Jeremy Bertomeu and Ivan Marinovic)
R&R at Journal of Accounting Research (JAR)
Executive compensation contracts use information from markets and accounting to elicit efficient incentives. We structurally estimate the contribution of each performance measure to quantify the relative importance of stock price versus accounting signals. For plausible risk-aversion levels, the average cost of moral hazard, defined as the risk premium paid to elicit effort, is about $ 3.5 million. In counterfactuals, we show that in the absence of reliable accounting performance measures, average compensation increases by approximately 16%, and by more than a factor of three when price information is unavailable (e.g., for a non-public firm). At high risk-aversion levels, relying only on accounting variables can make it suboptimal or infeasible to elicit high effort, imposing potentially large losses on shareholders. These results provide a first quantitative assessment of the value of accounting signals in executive contracts.

Managerial Myopia, Voluntary Disclosure, and Learning from Markets
I study voluntary disclosure and its effect on investment efficiency when myopic managers learn from stock prices before making investment decisions. In an investment feedback model with privately informed investors, I show a novel mechanism through which voluntary disclosure can encourage information acquisition and improve investment efficiency. When a firm discloses a good news about a project, investors expect the firm to invest more in the project. This raises the trading profits that informed investors can make from private information, and in turn strengthens incentives to acquire it. I then combine this insight with managerial myopia. In general, I find that myopia leads to excessive disclosure, crowding out information acquisition by investors. However, this adverse effect of myopia is mitigated when the manager’s information quality is low and the project is risky. My findings suggest that strategic disclosure can increase managerial learning from market and mitigate the adverse consequences of short-term managerial incentives.

Economics of Property Insurance
(with Hyeyoon Jung)
We study the economics of homeowners’ property insurance by examining how contract design balances the trade-off between incentive alignment and risk sharing. Using granular contract-level property insurance data merged with property-level disaster risk for millions of U.S. households, we develop and structurally estimate a model in which insurers optimally determine contract terms given property risk and household risk preferences. The estimates provide, to our knowledge, the first large-scale contract-level structural measures of risk aversion, risk premia, and the cost of moral hazard, allowing us to quantify how disaster risk is allocated between insurers and households. We find that the cost of moral hazard is small, yet the very mechanism used to mitigate it substantially increases households’ exposure to disaster risk: contract design leaves policyholders exposed to roughly 29 percent of total expected losses. This residual exposure is most pronounced for low-FICO households and for properties with the greatest tail risk. Counterfactuals indicate that mandating full insurance would lead to substantial market exit, increasing household vulnerability. We further show that insurers’ financial constraints are systematically correlated with the riskiness of underwritten properties and with household characteristics.

Presentations (including scheduled): Beachside Banking Chat*, NYU Stern Finance QFE Seminar*, Federal Reserve Bank of New York*, Mid-Atlantic Research Conference in Finance*, Bocconi-CEPR Finance Workshop on Asset Pricing*, Risk Theory Society Annual Seminar, Esade Spring Workshop*, Federal Reserve Bank of Philadelphia Conference on Consumer Finance and Macroeconomics, SFS Cavalcade, NBER Insurance Working Group Meeting

Deviations from the Law of One Price across Economies
(with Hyeyoon Jung)
In a model with agents facing constraints heterogeneous across economies, we provide a novel explanation for an understudied yet economically significant deviation from the Law of One Price across FX forward markets. Specifically, we document a substantial divergence between the exchange rate for locally traded forward contracts and contracts with the same maturity traded outside the jurisdiction of countries during the global financial crisis, and that the magnitudes varied across currencies. The model predicts that (1) the basis increases with the shadow costs of constraints across time and increases with the country-specific FX position limit across countries; (2) the shadow cost of each constraint non-linearly increases as the intermediary sector’s relative performance declines below a threshold; and (3) higher shadow cost of the position limit predicts lower future excess return on local-currency denominated assets, as buying local assets relaxes the FX position limit constraint imposed on the intermediaries. We test the model predictions and find consistent evidence in the countries with tight position limits.

Disclosure and Stock Market Participation
(with Kevin Smith)
Standard setters often cite investors’ confidence in the stock market and its impact on their desire to participate in this market as key motivations for disclosure regulations. This paper models how the informativeness and complexity of public disclosures influence market participation among unsophisticated investors who face ambiguity about the distribution of firms’ cash flows. In contrast to the common perception, we demonstrate that disclosure has countervailing effects on participation. While it reduces ambiguity, which encourages participation, it can also diminish the equity risk premium, especially during times of market stress, which discourages participation. Consequently, while simpler disclosures generally increase participation, more informative disclosures may have the opposite effect. We explore the implications for investor welfare and the design of optimal disclosure regulation.