In the first chapter of this dissertation I study the implications of InformationTechnology for Asset Prices. Using a comprehensive index of industry-level IT intensity, I uncover several empirical regularities in the cross section of equity returns over the past three decades: 1. Controlling for other commonly used factors, portfolios with exposure to industries with high IT intensity have on average 7% higher annual stock returns, suggesting industry-level IT intensity affects industry risk in a systematic way, 2. These risk premia are driven by firms in industries with a large presence of foreign multinationals, 3.These excess returns are not driven by High Tech sectors or the dot.com bubble. I formalize these empirical regularities through a two-country general equilibrium model with heterogeneous industries, allowing for differential IT adoption across industries and time variation in entry of multinational firms. Multinational firms operating outside of their headquarters are larger and more productive and adopt IT to operate more efficiently. The entry of multinational firms increases competition for domestic producers and displaces sales of unproductive incumbents. This framework emphasizes the channel of displacement risk through large productive multinational firms consistent with the literature on the effect of Information Technology on the expansion of large productive firms. Investors in industries with IT intensity, if incompletely diversified across countries and sectors, require larger returns to hold portfolios of smaller domestic firms in IT intensive industries and industries with a large share of sales dominated by multinational firms. Consistent with the model, the risk premium is higher for smaller firms and the effect of IT is amplified in industries with a larger share of foreign firms or more product substitutability. In the second chapter of this dissertation, I examine the relationship between information and communication technology, multinational activity and displacement risk for firms in United States. I use detailed data from Compustat on all public firms to create consistent measures of foreign sales of firms in the United States and abroad and present a description of how IT affects the level of overall concentration in the United States and foreign entry and competition. My results indicate a positive relation between foreign competition and IT adoption rates across US industries, that potentially explains the negative effects of IT on market shares of US domestic firms. The results challenge the common wisdom about IT and dominant firms in the United States economy and shed light on the observed productivity gaps between leaders and laggards. In particular, the mechanism supported from the data is one where large multinational firms gain from IT and displace domestic firms’ market shares leading to a reallocation of sales to incumbent multinationals that become more productive.

This dissertation consists of three chapters about search frictions in financial markets.

Chapter 1: “Pricing and Liquidity in Decentralized Asset Markets”

I develop a search-and-bargaining model of liquidity provision in over-the-counter markets where investors differ in their search intensities. A distinguishing characteristic of my model is its tractability: it allows for heterogeneity, unrestricted asset positions, and fully decentralized trade. I find that investors with higher search intensities (i.e., fast investors) are less averse to holding inventories and more attracted to cash earnings, which makes the model corroborate a number of stylized facts that do not emerge from existing models: (i) fast investors provide intermediation by charging a speed premium, and (ii) fast investors hold larger and more volatile inventories. I also calibrate the model, demonstrate that it produces realistic quantitative outcomes, and use it to study the effect of trading frictions on the supply and price of liquidity. The results have policy implications concerning the Volcker rule.

Chapter 2: “Price Dispersion and Trading Activity during Turbulent Times”

I construct a dynamic model of crises in a decentralized asset market that operates via search and bargaining. The crisis is modeled as a one-time aggregate shock to uncertainty with a random recovery. The arrival of the crisis shock leads to an increase in both the volatility of asset payoff and the volatility of investors’ background risk. The equilibrium path for investors’ valuations, terms of trade, and the distribution of investors’ positions is characterized in closed form both during the crisis and during the recovery. Tractability of the model allows me to derive natural proxies for price dispersion and trading activity. I show that both volatility of asset payoff and volatility of background risk contribute to higher level of price dispersion during the crisis. Trading activity might be higher or lower depending on the increase in the volatility of background risk relative to the increase in the volatility of asset payoff, consistent with the “flight-to-quality” observations during extreme episodes. A flight to the asset market always starts with a “heating-up” in trading activity but a flight from the market might start with a dry-up or heating-up during the onset of the crisis. If the relative increase in the volatility of asset payoff is too high, a period of fire sales is triggered leading to a short heating-up before the complete dry-up of the trading activity. I calibrate the model according to the U.S. corporate bond market data and show that it captures the observations during the subprime crisis.

Chapter 3: “Endogenous Liquidity and Cross-section of Returns in Dynamic Bargaining Markets”

The empirical analysis of liquid/illiquid asset pairs reveals the existence of a return differential (liquidity premium) between those types of assets. The time variation in liquidity premia is delineated by the term "flight-to-liquidity," meaning that liquidity premia are higher during extreme market episodes. In this paper, I extend the search-and-bargaining model of Weill (2008) by allowing for risk aversion, to explain this observation. Risk-averse investors optimally allocate their limited budgets of search efforts to various assets. This extension allows me to examine the relationship between risk and liquidity of assets in the cross-section and over time. My model generates endogenous cross-sectional liquidity differentials corroborating much of the empirical evidence. Furthermore, I show that when asset payoffs are more volatile, trade surpluses are higher because idiosyncratic hedging quality differentials are wider. Higher trade surpluses lead to higher value of search, and in turn, higher opportunity cost of committing to a particular asset, especially to an illiquid one. Therefore, periods of high volatility are associated with a flight-to-liquidity.

My thesis consists of three chapters on information economics and financial economics.

Chapter 1:

Many decentralized over-the-counter (OTC) markets have recently become subject to new regulations requiring transparency. I build up an information model that features bilateral trade in a double auction, endogenous public signal, and inter-dealer network formation to study the effect of TRACE on the inter-dealer markets. In the trading stage, I study the private information diffusion process and endogenize the public information contained in the disseminated trading price. I show that in markets with a relatively low degree of information asymmetry, post-trade transparency makes the adverse selection more severe and reduces the surplus from asset reallocation between dealers, and thus hurts the inter-dealer network formation. Investors are more likely to be symmetrically uninformed about thinly traded bonds. The empirical results provide evidence that TRACE has a significant negative effect on the inter-dealer trading frequency for thinly traded bonds.

Chapter 2 (with Kim-Sau Chung):

During currency crises, large traders once simultaneously short the asset markets and currency market. We study the large trader's information manipulation in crises by introducing a large trader in an asset market and a currency-attack coordination game with imperfect information. The asset price realized in the asset market aggregates dispersed private information acting as a public signal in the currency attack game. We show that the incentive of the large trader to manipulate the asset price in favor of its currency attack leads to financial contagion. In equilibrium, the large trader's manipulating the asset price to be lower and attacking the currency regime are concurrent; the large trader's manipulation in the asset market is most significant when the public signal is in the intermediate range. To draw policy implication regarding the market transparency, we show that when the asset market is transparent, a natural equilibrium refinement that incorporates forward induction reasoning would select the equilibrium where every trader behaves most aggressively in the currency-attack game and the currency regime is most fragile.

Chapter 3 (with Yinqiu Lu):

The way central banks manage their foreign reserve assets has evolved over the past decades. One major trend is managing reserves in two or more tranches -- liquidity tranche and investment tranche -- especially for those with adequate reserves. Incorporating reserve tranching, we have developed in this paper a central bank’s reserve portfolio choice model to analyze the determinants of the currency composition of reserves. In particular, we adopt the classical mean-variance framework for the investment tranche and the asset-liability framework for the liquidity tranche. Building on these frameworks, the roles of currency compositions in imports invoicing and short-term external debt, and risk and returns of reserve currencies can be quantified by our structural model -- a key contribution of our paper given the absence of structural models in the literature. Finally, we estimate the potential paths of the share of RMB in reserves under different scenarios to shed light on its status as an international currency.

This dissertation consists of three chapters on banking and monetary economics. In Chapter 1, I study whether monetary policy is less effective in a low interest-rate environment. To answer this question, I examine how the passthrough of monetary policy to banks' deposit rates has changed, during the secular decline in interest rates in the U.S. over the last decades. In the data, the passthrough increased for about one third of banks, and decreased for the rest. Moreover, the deposit-weighted bank-average passthrough increased under a lower interest rate. I explain this observation in a model where banks have market power over loans and face capital constraints. In the model, when interest rates are low, the passthrough falls as policy rates fall, only in markets where loan competition is high. Hence, the overall passthrough depends on the distribution of loan market power. I confirm the model's prediction using branch-level data of U.S. banks. This channel also impacts the transmission of monetary policy to bank lending under low interest rates.

In Chapter 2 (joint with Tsz-Nga Wong), we document a new channel mediating the effects of monetary policy and regulation, the disintermediation channel. When the interest rate on excess reserves (IOER) increases, fewer banks are intermediating in the Fed funds market, and they intermediate less. Thus, the total Fed funds traded decreases. Similarly, disintermediation happens after the balance sheet cost rises, e.g. the introduction of Basel III regulations. The disintermediation channel is significant and supported by empirical evidence on U.S. banks. To explain this channel, we develop a continuous-time search-and-bargaining model of divisible funds and endogenous search intensity that includes the matching model (e.g. Afonso and Lagos, 2015b) and the transaction cost model (e.g. Hamilton, 1996) as special cases. We solve the equilibrium in closed form, derive the dynamic distributions of trades and Fed fund rates, and the stopping times of entry and exit from the Fed fund market. IOER reduces the spread of marginal value of holding reserves, and hence the gain of intermediation. In general, the equilibrium is constrained inefficient, as banks intermediate too much.

In Chapter 3 (joint with Saki Bigio and Eduardo Zilberman), we compare the advantages of lump-sum transfers versus a credit policy in response to the Covid-19 crisis. The Covid-19 crisis has lead to a reduction in the demand and supply of sectors that produce goods that need social interaction to be produced or consumed. We interpret the Covid-19 shock as a shock that reduces utility stemming from "social" goods in a two-sector economy with incomplete markets. For the same path of government debt, transfers are preferable when debt limits are tight, whereas credit policy is preferable when they are slack. A credit policy has the advantage of targeting fiscal resources toward agents that matter most for stabilizing demand. We illustrate this result with a calibrated model. We discuss various shortcomings and possible extensions to the model.

The money supply composition has shifted towards liquid securities created by financial intermediaries. However, the recent financial crisis has highlighted the fragility of this source of liquidity.

Therefore, in the first chapter I create a model where currency, safe liabilities and risky liabilities all provide liquidity services. During normal times, intermediaries are able to fully satiate the demand for liquidity. This corresponds to a large drop in liquidity supply during a crisis because of the defaults from risky liabilities. Nevertheless, a welfare maximizing planner would like to reduce or eliminate these changes in the supply of liquid asset. Liquidity and capital requirements can restore efficiency, but they are sensitive to calibration and may be ineffective when analyzed individually.

In the second chapter, I document some recent trends in the financial industry. Bank holding companies have deleveraged their balance sheets, while increasing the amounts of issued deposits. These trends are particularly strong among the largest U.S. banks, while smaller ones have a balance sheet that resembles a textbook commercial bank. I then calibrate the model presented in the first chapter using bank level data. The calibrated equilibrium shows how the structure of the financial sector is unresponsive to changes in the monetary policy target rate.

This dissertation consists of three chapters on macroeconomics and finance. In Chapter 1, I study how disruptions in secondary bond market liquidity affect the macroeconomy. I introduce search-based secondary markets for long-term corporate bonds into a dynamic general equilibrium model. In the model, with borrowing constraints and incomplete insurance, firms restrict hiring ex-ante when default risk increases. A worsening of bond market liquidity, by affecting bond prices and thus the borrowing limits for firms, has aggregate negative impact on firms' labor choices. A positive default-liquidity spiral further amplifies these effects. In the quantitative analysis of my model, I show that a liquidity shock calibrated to match the observed increase in the bid-ask spread could explain about 20% of the employment losses in the Great Recession. I also provide a structural estimate of the impacts of the Fed's corporate bond purchasing program on the real economy during the COVID-19 crisis. By improving bond market liquidity, the Fed's interventions avoided a 2 percentage point drop in employment.

In Chapter 2 (joint with Adrien d'Avenas and Andrea Eisfeldt), we explain why credit spreads explain firm-level investment better than equity volatility does. While credit spreads always predict lower investment, the sensitivity of investment to equity volatility changes sign in the cross section of firms depending on their distance to default. Higher equity volatility predicts greater investment for firms far from their default threshold, consistent with a larger option value of investment at higher levels of volatility. On the other hand, higher equity volatility predicts lower investment for firms with high credit spreads, consistent with debt overhang. Opposite effects at the firm level wash out and confound aggregate inference. We provide clean intuition using a simple model.

In Chapter 3 (joint with Lucyna Gornicka, Federico Grinberg, and Marcello Miccoli), we study how the introduction of Central Bank Digital Currency (CBDC) might disintermediate the banking sector. Using a simple portfolio choice model we find that CBDC reduces bank credit only in special cases and when it does, the effect is quantitatively small. In the model, households allocate their wealth between an illiquid asset and three liquid assets: cash, bank deposits and CBDC. An imperfectly competitive banking sector provides deposits and lending. When all liquid assets are costless to access, the introduction of CBDC does not lead to bank disintermediation, as banks increase the return on deposits to fight off the competition from CBDC. However, if the access to deposits and CBDC is costly, the introduction of the latter may lead to bank disintermediation under specific conditions. The conditions are that CBDC is much cheaper to access than bank deposits and that the wealth distribution is very unequal. Under these conditions, poorer households will stop holding deposits in favor of CBDC, but banks will not aggressively fight the outflow of customers due to their relatively small wealth. Still, the impact on lending turns out quantitatively small if banks have access to other forms of funding.

This dissertation provides a study of optimal trading and contracting decisions, and their impacts on modern market structures. The dissertation is composed of three chapters.

Chapter 1 investigates the impact of dark pools on the informational efficiency of prices (price discovery). Traders trade an asset in either an exchange or a dark pool, with informed traders having heterogeneous private signals whose distribution is determined by an information precision level. We find that dark pools have an amplification effect on price discovery. That is, when information precision is high, adding a dark pool enhances price discovery, whereas when information precision is low, adding a dark pool impairs price discovery. The main force behind this result is a sorting effect: in equilibrium, traders with strong signals trade in exchanges, traders with modest signals trade in dark pools, and traders with weak signals do not trade. These results produce novel empirical predictions regarding dark pools that reconcile the empirical evidence. The results also provide regulatory suggestions on enhancing the informational efficiency of pricing in equity markets and in emerging markets.

Chapter 2 provides a framework to study information diffusion and interaction between a centralized and a bilateral market. In the model, traders trade to hedge their positions with some agents possessing private information. All agents can trade in the bilateral market before trading with a monopolistic market maker in a centralized market. We show that an active bilateral market functions as a channel to disseminate information. Moreover, information diffusion depends on the centralized market liquidity: both overly liquid and overly illiquid centralized markets discourage bilateral trading, and only reasonable centralized market liquidity activates bilateral trading and hence information diffusion. We also find that information diffusion is conducted in an asymmetric way. Which type of news spreads faster depends on the conjecture of the uninformed traders. Lastly, when prices in the centralized market contain information, it may ``squeeze out" trades and information diffusion in the bilateral market.

Chapter 3, which is co-authored with Jen-wen Chang, analyzes the optimal screening decision for a monopolistic firm when consumers have time-inconsistent preferences and unobservable multiple degrees of naivet e (unawareness of their time-consistency). The firm can contract to screen their degrees of sophistication, subject to profit maximization. We characterize the optimal contracts and show that the firm offers a non-screening contract when consumers have deterministic costs and offers a screening contract when consumers have random costs. We argue that the uncertainty of the consumption costs lowers the firm's screening costs, and a discount per-usage price serves as a commitment device for the more sophisticated types. The results explain the phenomenon of the variation of contracts in sports club memberships, saving plans, and retirement programs.

This dissertation consists of three chapters that study dealer's endogenous search effort in over-the-counter (OTC) financial markets and its effect on asset's liquidity risk in U.S. corporate bond markets. In Chapter 1, I study dealer's search intensity using a transaction-level data set on U.S. corporate bonds. The main target of this chapter is to test whether dealer's search intensity is endogenously determined by their idiosyncratic states and how search intensity affects market efficiency. Existing literatures commonly do not consider dealer's continuous adjustment of search intensity in search-and-match models and there is no paper using transaction-level data to estimate the dealer-level state-dependent search intensity. In this paper, I propose a search-and-match model with dealers' endogeneous and state-dependent search intensity and estimate it using the TRACE data for the U.S. corporate bond market. I find that: [1] if we rank all dealers by their private valuations for holding the bond, the dealer of the middle-level private valuation will choose the highest level of search intensity, and she works as the "dealer of dealers" to reallocate bond positions from the low-type dealers to the high-type dealers; [2] the estimated model gives us a quantitative evaluation of the inefficiency due to the decentralized market structure. At the average level across all sub-markets in our sample, the model estimates that dealers' search cost is 0.75% of bond's face value, and there is on average 8.64% of bond positions being misallocated, comparing with a counterfactual frictionless market. In conclusion, the decentralized market structure generates 8.96% welfare loss relative to the frictionless one.

In Chapter 2, I study the correlation between corporate bond's misallocation among dealers and liquidity risk. This chapter bridges the literature on search-and-match models and the literature on explaining the non-default component of corporate bond's credit spread variations. In this paper, I propose a measure of bond's misallocation among dealers. This measure is based on a structural search-and-match model, and is defined as the cross-sectional covariance of dealers' idiosyncratic private valuations for holding the bond and their actual inventory positions in the bond. Using the TRACE data for the U.S. corporate bond market, I construct a panel data which contains yearly series of empirical estimates of bond's misallocation and liquidity risk, and verify that: at the bond level, a higher magnitude of misallocation among the dealers is associated with a higher magnitude of liquidity risk. This finding gives a preliminary market microstructural evidence supporting that: the distribution of market maker's states correlates with the magnitude of asset's liquidity risk.

In Chapter 3, I theoretically study the social optimal policy function of dealer's meeting technology in over-the-counter markets. This chapter contributes to the existing literature by considering the dealer-level state-dependent meeting technology in a random search model and obtaining explicit-form solutions of the social optimal policy functions. In the model, I allow the agents (dealers) to freely adjust their meeting technologies based on two types of idiosyncratic states: asset position and liquidity need. I find that in the social optimal policy functions, there is no intermediation in the sense that no dealer will choose to search simultaneously on both the buy side and sell side of the market. This result applies for a general form of search-cost function.

This dissertation studies the effects macroeconomic policies and events on economic outcomes and welfare, using a combination of empirical analysis and quantitative modeling. The first chapter examines the effects of negative interest rate policies implemented by central banks in the aftermath of the Great Recession. The second chapter studies the timing of the Industrial Revolution and the sources of business cycle fluctuations prior to the Great Depression. Both chapters contribute to our understanding of how economic policies and events impact economic welfare.

The first chapter studies the impact of negative interest rate policies on bank lending, investment, and employment, taking into account the role of capital-labor substitution in production. Using matched firm-bank data from seven euro area countries and employing a difference-in-differences approach, I find that following the introduction of these policies, firms linked to banks with higher deposit ratios receive less credit relative to their counterparts associated with banks with lower deposit ratios. These firms also invest less but tend to hire more employees, especially in industries with high capital-labor substitutability. These findings highlight the role of capital-labor substitution in shaping the effects of negative interest rate policies. To further analyze these findings in a general equilibrium framework and to quantify the aggregate effects of these policies, I use a DSGE model that incorporates bank lending and a CES production function. I find that negative interest rate policies increase lending, investment, employment, and welfare in consumption equivalent units. This model also reveals that higher capital-labor substitutability surprisingly leads to larger declines in output and bank equity following a negative capital productivity shock. Based on this insight, I show that welfare gains from implementing negative interest rate policies increase with capital-labor substitution, and even slight variations in capital-labor substitution elasticity can have significant implications for both the economy and banks.

The second chapter provides quantitative analyses of two striking historical episodes, the timing of the Industrial Revolution in England, and the sources of U.S. economic fluctuations between 1889-1929. Applying data from 1245-1845 within the ``Malthus to Solow'' framework shows that the timing of the Industrial Revolution reflects a subtle interplay between large changes in TFP and deaths from plagues. We find that U.S. economic fluctuations, including the Panics of 1893 and 1907, were driven primarily by volatile TFP, and that growth during the ``Roaring Twenties'' should have been even stronger, reflecting a large labor wedge that emerged around World War I.

This dissertation consists of three essays on financial intermediation and international economics. In the first two essays, I study how new regulations and technologies affect liquidity in decentralized over-the-counter (OTC) markets. These markets are defined by the lack of a centralized exchange, which forces customers to search for trading counterparties and encourages dealers to provide financial intermediation. In the first essay, I address the trade-off between trading speed and transaction costs investors face in a context where dealers face higher regulatory costs. In the second essay, I explore portfolio trading, the latest innovation in the corporate bond market --one of the biggest OTC markets--, highlighting its effect on market liquidity. In the third essay, I consider a scenario where countries issue assets with different liquidity and study its macroeconomic and asset pricing effects.

In recent years, stringent financial regulations and advancing trading technologies have reshaped over-the-counter intermediation, discouraging dealers from providing immediacy to customers using their own inventories (principal trades) in favor of a larger matchmaking activity (agency trades). The first chapter of this dissertation studies how customers optimally choose between these two trading mechanisms and the implications of this choice for market liquidity. I develop a quantitative search model where heterogeneous customers choose between immediate but expensive and delayed but less costly trades, i.e., principal and agency trades, respectively. Each customer solves this speed-cost trade-off, jointly determining her optimal mechanism, transaction costs, and trading volume. When market conditions change, customers migrate across mechanisms in pursuit of higher trading surpluses. I show that this migration is not random, thus liquidity measures change not only because of changes in market conditions but also because of a composition effect. To quantify such an effect, I structurally estimate my model and build counterfactual measures that control for migration. I replicate the major innovations seen in these markets and find that composition effects explain more than a third of the increase in principal transaction costs.

The second chapter studies a recent innovation in the corporate bond market: portfolio trading. In contrast to sequential trading, this new protocol allows customers to trade a list of bonds as a single security. I show that these trading features have significant consequences on market liquidity. Particularly, I present novel evidence of asymmetrical transaction costs: compared to sequential trading, portfolio trading is less expensive when customers buy bonds and more expensive when they sell them. I find that dealers’ balance sheet costs and portfolios’ diversification explain such differences.

Finally, the third chapter presents a two-country model where the government bonds issued by one country can be used to ease financial transactions globally, resulting in endogenous convenience yields for these assets. I find that the new issuance of convenience assets spills over to foreign households, as their equilibrium transaction costs are reduced. Moreover, a global liquidity shock affects both countries differently, as the pricing of convenience assets increases in this shock and allows the issuing country to reduce taxes. Finally, I study the asset pricing implications of convenience yields in light of existing puzzles.