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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.

We design a laboratory experiment to test the importance of wealth as a channel for financial contagion across markets with unrelated fundamentals. In a sequential global game, we analyze the decisions of a group of investors that hold assets in two markets. We consider two treatments that vary the level of diversification of these assets across markets. In both treatments, we find evidence of financial contagion. When investors have completely diversified portfolios, we provide evidence of contagion due to a wealth effect: for certain ranges of fundamentals, we show that a decrease in wealth from the investment in the first market makes withdrawals more likely in the second, thereby increasing the probability of a crisis. When portfolio diversification is small, then social imitation is relevant in explaining contagion.

We consider the problem of a leader who can assign rewards for citizens for different anti-regime actions. Citizens face a coordination problem in which each citizen has a private, endogenous degree of optimism about the likelihood of regime change. Because more optimistic citizens are easier to motivate, the choice of optimal rewards entails optimal screening. This leads to a distribution of anti-regime actions. A key result is the emergence of a vanguard, consisting of citizens who engage in the endogenous, maximum level of action. Other citizens participate at varying degrees, with less optimistic citizens contributing less. We explore how the regime’s strength or the maximum reward available to the leader influences the distribution of actions. Moreover, we show that more heterogeneity (e.g., higher inequality) among potential revolutionaries reduces the likelihood of regime change. Our methodological contribution is that we deliver a sharp and novel marriage of screening and global games.

Players receive a return to investment that is increasing in the proportion of others who invest and the state and incur a small cost for acquiring information about the state. Their information is reflected in a stochastic choice rule, specifying the probability of a signal leading to investment. If discontinuous stochastic choice rules are infinitely costly, there is a unique equilibrium as costs become small, in which actions are a best response to a uniform (Laplacian) belief over the proportion of others investing. Infeasibility of discontinuous stochastic choice rules captures the idea that it is impossible to perfectly distinguish states that are arbitrarily close together and is both empirically documented and satisfied by many natural micro-founded cost functionals on information. Our results generalize global game selection results and establish that they do not depend on the specific additive noise information structure.

We derive a new cost of information in rational inattention problems, the neighborhood-based cost functions, starting from the observation that many settings involve exogenous states with a topological structure. These cost functions are uniformly posterior separable and capture notions of perceptual distance. This second property ensures that neighborhood-based costs, unlike mutual information, make accurate predictions about behavior in perceptual experiments. We compare the implications of our neighborhood-based cost functions with those of the mutual information in a series of applications: perceptual judgments, the general environment of binary choice, regime-change games, and linear-quadratic-Gaussian settings. (JEL C70, D11, D82, D83, D91)

We analyze a regime change game in which an active defender can invest in costly, unobservable defenses. We show that if there are sufficiently many potential attackers, the game has a unique Nash equilibrium in which the defender chooses to have almost no defenses and attacks almost never occur. This provides a new perspective on coordination problems and the necessity of refinements in regime change games.

Two main classes of channels are studied as informational sources of financial contagion. One is a fundamental channel that is based on real and financial links between economies, and the second is a social learning channel that arises when agents base their decisions on noisy observations about the actions of others in foreign markets. Using global games, I present a two‐country model of financial contagion in which both channels can operate and I test its predictions experimentally. The experimental results show that subjects do not extract information optimally, which leads to two systematic biases that affect these channels directly. Base‐rate neglect leads subjects to underweight their prior, and thus weakens the fundamental channel. An overreaction bias strengthens the social learning channel, since subjects rely on information about the behavior of others, even when this information is irrelevant. These results have significant welfare effects rooted in the specific way in which these biases alter behavior.

We model a dynamic economy with strategic complementarity among investors and study how endogenous government interventions mitigate coordination failures. We establish equilibrium existence and uniqueness, and we show that one intervention can affect another through altering the public information structure. A stronger initial intervention helps subsequent interventions through increasing the likelihood of positive news, but also leads to negative conditional updates. Our results suggest optimal policy should emphasize initial interventions when coordination outcomes tend to correlate. Neglecting informational externalities of initial interventions results in over- or under-interventions. Moreover, saving smaller funds disproportionally more can generate greater informational benefits at smaller costs.

In a regime change game, privately informed agents sequentially decide whether to attack without observing others’ previous actions. To dissuade them from attacking, a principal adopts a dynamic information disclosure policy, frequent viability tests. A viability test publicly discloses whether the regime has survived the previous attacks. When such tests are sufficiently frequent, in the unique cutoff equilibrium, agents never attack if the regime passes the latest test, regardless of their private signals. We apply this theory to demonstrate that a borrower can eliminate panic-based runs by sufficiently diffusing the rollover choices across different maturity dates. (JEL C72, D82, G21)

Diplomacy always occurs in the shadow of domestic political competition. We develop a model of top-level diplomatic exchange between an incumbent and a foreign leader, embedded within a global game of regime change, and examine four mechanisms that induce a relationship between diplomatic visits and regime survival. First, the foreign leader chooses to visit incumbents who are ex ante more secure in office (a selection effect). Second, because the foreign leader’s decision is based partly on private information, the citizens update on the revelation of that information (a learning effect) and are discouraged from mounting a challenge. Third, the foreign leader can bolster the incumbent’s strength in office with a transfer of material support (a strengthening effect). The latter two effects are then amplified by the complementarities in the citizens’ strategies (a multiplier effect). Contrary to standard global games results, we show that increased precision in the public information transmitted strategically by the foreign power induces a unique equilibrium, as citizens coordinate on the foreign leader’s action. Our findings explain why leaders are so eager to receive state visits from major world powers.

Rapidly advancing mobile technology has made mobile games a leader in the global games market. As the market size of mobile games has grown, the competition has also accelerated enormously. Thus, in order to ensure success, mobile games must sustain their initial boom for a long time, as well as attract enough users to solidify their installed base. The purpose of this research is to detect diffusion patterns and identify the determinants of mobile games' growth and decline hazards. The results show that mobile games have a distinctive brand-level life cycle in which the growth possibility decreases monotonically over time after the release, while the decline possibility rises after reaching the peak and then later begins to fall. This paper shows how the games' characteristics affect their attracting/holding power. The study provides implications for developers and distributors in terms of how to design, market, and manage mobile games.

Could a less conservative central bank, that is, one with a smaller aversion to inflation, be more likely to withstand pressure on its currency peg? Traditional currency-crisis models provide an unambiguous answer: No. We argue that this answer stems from the models' narrow focus on how a central bank's resistance to private-sector pressure affects output and inflation in the short run. The answer may reverse if pegging is a commitment device, serving to address domestic credibility issues in the long run by transferring the conduct of monetary policy abroad. As a less conservative central bank stands to benefit more from such a transfer, it should find a peg more valuable.

We study the potential role of correlated refinancing abilities among different countries for the disruption of government bond markets in a currency union. Following Morris and Shin (2004) we use a global games framework and model the simultaneous investment decision into two assets, which are subject to correlated fundamental states, as a coordination problem with correlated imperfect information. Based on this model we evaluate the role of information about one country for the coordination of creditors of another country. We find, however, that the contagious effects on the price of debt precipitated through correlation are modest. Hence, assuming that investors behave as modeled in the global game, we conclude that correlated fundamentals that precipitate informational spillovers appear to be unlikely to play a major role for e.g. the disruption of some Eurozone government bond markets in the aftermath of the recent financial and economic crisis.

Regime change global games have become popular models in comparative politics because they ensure a unique equilibrium when coordination concerns tend to generate multiple equilibriums. This articl...

This paper studies a coordination game with incomplete information and the option to delay. The delay option enables the agents to observe a binary signal depending on whether the early actions (e.g., investment) surpasses a threshold. The anticipation of information incentivizes agents to wait and free-ride on the information, whereas acting early can help to generate good news, and consequently induce more coordination. Relying on this trade-off, we find the unique monotone equilibrium, which features the inability of the delay option in facilitating coordination. If the waiting period is sufficiently short or the interest rate is sufficiently low, the delay option induces more inaction and makes coordination more difficult to achieve, as compared with the static case. We further discuss the theoretical implications for understanding the impact of monetary policy on economic recovery and how the accessibility of information affects financial stability.

During the Bretton Woods era, OECD countries grew at historically unprecedented rates. This Golden Age has many possible explanations, ranging from the return to liberal policies in international trade to a backlog of profitable growth opportunities after the neglect of the 1930s and war-time damage. Eichengreen (1996) has argued that the proximate cause of the rapid growth was high investment, and that this high investment was made possible by certain institutions that were particularly well suited to reconstruction and growth. On the domestic side, these institutions led to high investment rates and moderate wage claims. This paper interprets the interaction between unions and firms as a coordination game. The risk-dominant equilibrium is selected via a global game argument. Only small changes to the payoffs are necessary to explain a change in the selected equilibrium, and therefore, the growth slowdown.

This paper develops a micro-founded global games model of debt crises. I use this model to study which policies can help to prevent expectations-driven crises and how the desirability of such policies depends on market participants' expectations and the presence of economic policy uncertainty. I show that endogenous expectations amplify the effects of government policies, so that even a small policy adjustment can have significant effects. I find that policy uncertainty may increase the range of situations in which government policies can help prevent a crisis but decrease their overall impact. Finally, I apply these insights to study two policies that are often at the center of political discussions: austerity (an increase in taxes) and government stimulus. I show that under plausible conditions an increase in taxes is preferable to a government stimulus, and that policy uncertainty further increases the relative attractiveness of austerity.

This paper studies how a bank regulator’s aggregate and bank-specific information dis-closure policy affects social welfare. We apply global games to studying an economy where depositors, with strategic complementarities among them, face uncertainties about both aggregate and bank-specific information of a bank. Then we examine how disclosure policy of a bank regulator on the bank’s aggregate and bank-specific information affects welfare. With the assumption that bank depositors rely on the bank regulator to collect aggregate bank performance information but have precise private information about bank-specific in-formation, we find that more precise aggregate information disclosed by the bank regulator improves welfare when bank fundamentals are either extremely strong or weak, but tends to reduce welfare when the fundamentals are in the intermediate range where coordination plays a key role. In contrast, more precise bank-specific information disclosed by the regulator tends to increase welfare, even when the fundamentals are in the intermediate range.

We study platform markets in which the information about users’ preferences is dispersed. First, we show how the dispersion of information introduces idiosyncratic uncertainty about participation decisions and how the latter shapes the elasticity of the demands and the equilibrium prices. We then study the effects on profits, consumer surplus, and welfare of platform design, blogs, forums, conferences, advertising campaigns, post-launch disclosures, and other information management policies affecting the agents’ ability to predict participation decisions on the other side of the market.

In standard global games, individual behavior is optimal if it constitutes a best response to agnostic — Laplacian — beliefs about the aggregate behavior of other agents. This paper considers a standard binary action global game augmented with noisy signaling by an informed policy-maker and shows that in this game, equilibrium beliefs depart in quite stark ways from the Laplacian benchmark. In the limit as signals become arbitrarily precise, so that all fundamental uncertainty is removed (leaving only strategic uncertainty), the equilibrium beliefs of the marginal individual concerning the aggregate action collapse to a discrete Bernoulli distribution, giving probability mass only to the polar extreme outcomes. By contrast in the underlying standard global game the marginal individual believes the aggregate action has a continuous uniform distribution, giving equal likelihood to all possible outcomes.

Why does the market discipline that financial intermediaries face seem too weak during booms and too strong during crises? This paper shows in a general equilibrium setting that rollover risk as a disciplining device is effective only if all intermediaries face purely idiosyncratic risk. However, if assets are correlated, a two-sided inefficiency arises: Good aggregate states have intermediaries taking excessive risks, while bad aggregate states suffer from costly fire sales. The driving force behind this inefficiency is an amplifying feedback loop between asset values and market discipline. In equilibrium, financial intermediaries inefficiently amplify both positive and negative aggregate shocks.

Distressed firms are vulnerable to inefficient panic-based runs of their workers, suppliers, and customers. A policymaker may try to prevent such a run by pledging to protect the interests of these stakeholders should a firm cease to do business. However, this promise also enables the firm to demand better terms of trade from its stakeholders, which blunts the policy's effectiveness. We show how to avoid such an adverse response by the use of partial, countercyclical insurance. Under certain conditions, such a scheme costlessly implements the first-best outcome in the limit as the stakeholders' information becomes precise. We also identify least-cost efficient schemes in the cases of large noise, learning, and duopoly.

We revisit Ball and Romer’s (1990) canonical model of price setting with menu costs that exhibits multiple equilibria. We show that changes to firms’ markups move nominal and real rigidities in opposite directions. Using game-theoretic tools to derive a unique equilibrium, we find that accounting for agents’ endogenous adjustment of price expectations further weakens the link between real and nominal rigidities.

This paper adds a speculator and an authority to a benchmark global game model to investigate how the speculator endangers a business or an economy, and what the authority can do about it. It is found that the existence of a speculator increases the financial system’s vulnerability by serving as a coordinating device for the investors and thus triggering the crisis. We then compare three different intervention policies imposed by the authority aiming to counteract this effect: deterring the speculator, rewarding holding investors, and eliminating the preemption motives among investors. We argue that the first method may not work because of the multiplicity problem; the second one is useless when a crisis is about to happen; the last tool works given enough effort. We also include a discussion of different intervention polices employed by governments during the 1997 Asian financial crisis to illustrate the theoretical results.

I study rollover risk in wholesale funding markets when intermediaries hold liquidity ex ante and fire sales may occur ex post. Multiple equilibria exist in a global rollover game: intermediate liquidity holdings support equilibria with both positive and zero expected liquidation. A simple uniqueness refinement pins down the private liquidity choice, which balances the forgone expected return on investment with reduced fragility and costly liquidation. Due to fire sales, liquidity holdings are strategic substitutes. Intermediaries free ride on the holdings of other intermediaries, causing excessive liquidation. To internalize the systemic nature of liquidity, a macroprudential authority imposes liquidity buffers.

Traditional decision theory assumes that people respond to the exact features of the options available to them, but observed behavior seems much less precise. This review considers ways of introduc...

Global games and Poisson games have been proposed to address equilibrium indeterminacy in Coordination games. The former assume that agents face idiosyncratic uncertainty about economic fundamentals, whereas the latter model the number of actual players as a Poisson random variable to capture population uncertainty in large games. Given that their predictions differ, it is imperative to understand which type of uncertainty drives behavior, if any. Recent experimental literature finds that subjects' behavior after limited game-play is similar in Global and Common Knowledge Coordination games, thus casting doubts on whether idiosyncratic uncertainty about economic fundamentals is an important determinant of inexperienced subjects' behavior. The more recent Poisson Coordination games have not been investigated experimentally. We design an experiment to study the behavior of subjects in single-shot Poisson, Global and Common Knowledge Coordination games. While corroborating the above experimental literature, our findings also suggest that uncertainty about the number of actual players in large games does influence subjects' behavior in single-shot games. Crucially, such behavior is, in fact, consistent with the theoretical prediction of Poisson Coordination games.

I present a model of cryptocurrency price formation that endogenizes both the financial market for coins and the fee-based market for blockchain space. A cryptocurrency has two distinctive features: a price determined by the extent of its usage as money, and a blockchain structure that restricts settlement capacity. Limited settlement space creates competition between users of the currency, so speculative activity can crowd out monetary usage. This crowding-out undermines the ability of a cryptocurrency to act as a medium of payment, lowering its value. Higher speculative demand can reduce prices, contrary to standard economic models. Crowding-out also raises the riskiness of investing in cryptocurrency, explaining high observed price volatility.

We develop a theoretical model to assess the merits of principal-write down contingent convertible (CoCo) bonds. The conversion risk is the key feature of CoCo bonds. Because of this conversion risk, CoCo bonds are hard to price and an equilibrium price does not necessarily exist. In our model, for such a price to exist, the bank needs to hold a minimum amount of equity and/or the expected return associated with its asset portfolio needs to be large enough. When an equilibrium price exists, it is a decreasing function in the amount of equity held by the bank. Well-capitalized banks can thus issue CoCo bonds at a lower price than least-capitalized banks. This is the reason why CoCo bonds are to be thought of more as a complement to equity than as a substitute. In addition, because of the conversion risk, self-fulfilling panics may occur in the CoCo bonds' market. We indeed define a game between CoCo bonds' holders and the Central Bank that allows us to exhibit situations where a panic occurs in the CoCo bonds' market. Using the global game technique, we show that the probability of crisis can be expressed as a function of the return associated with the asset portfolio of the bank. The probability of crisis is shown to be sensitive to the precision of the information available to CoCo bonds' holders. Taken together, our results call for cautiousness when assessing the relevance of regulatory requirements in CoCo bonds, especially concerning their systemic impact.

In this paper, we study a family of sales-based rebate mechanisms as an effective tool to implement price discrimination across a population of buyers with correlated heterogeneous valuations on indivisible goods and services. In order to implement such sales-based rebate mechanisms, the seller charges each buyer a fixed price at the time of purchase contingent on a rebate that is a function of the ex post sales volume to be realized at the end of the sales period. The seller declares both a price and a menu of rebates as a function of sales. We show that, when there is a common component of uncertainty in consumers’ valuations (to which we refer as the quality of the product), such rebates enable a seller to effectively induce different expected net prices at different valuations. Importantly, this effective price discrimination over valuations is achieved keeping both the base price and the rebate uniform across all buyers. This uniformity of price and rebate across buyers is a key advantage of our proposed rebate mechanism, thereby providing a new mechanism for price discrimination in crowd-based markets. We use tools and techniques from game theory and variational optimization to provide insight into the economics of such mechanisms. In particular, we identify two mechanisms that are monotone functions of the sales volume that are easy to implement in practice and perform well when compared with the much more complex optimal mechanism. We provide a rigorous analysis of the optimal mechanism and discuss practical limitations in implementing the globally optimal design, further demonstrating the efficacy of our proposed monotone mechanisms. This paper was accepted by Gabriel Weintraub, revenue management and market analytics. Funding: This research was supported by a Vannevar Bush Fellowship from the Office of Secretary of State and Army Research Office [MURI Project W911NF-19-1-0217]. Supplemental Material: The data files are available at https://doi.org/10.1287/mnsc.2023.4691 .

A coordination game with incomplete information is played through time. In each period, payoffs depend on a fundamental state and an additional idiosyncratic shock. Fundamentals evolve according to a random walk where the changes in fundamentals (namely common shocks) have a fat tailed distribution. We show that majority play shifts either if fundamentals reach a critical threshold or if there are large common shocks, even before the threshold is reached. The fat tails assumption matters because it implies that large shocks make players more unsure about whether their payoffs are higher than others. This feature is necessary for large shocks to matter.

This paper uses a two-stage variant of a dynamic global game often used to model speculative attacks to study experimentally whether and when the introduction of an announcement by an uninformed outsider facilitates coordination. Consistent with previous findings, when multiplicity is theoretically possible, the announcement serves as a coordination device and significantly affects the probability of a successful speculative attack. On the other hand, importantly, when the model predicts a unique equilibrium in the same environment, I find that the announcement has no effect on behavior. Beliefs about others’ actions appear to play a crucial role in the differential effect of the announcement on attacking behavior under different information conditions.

This paper provides the first unified explanation of behavior in coordinated attack games under both public and private information. It demonstrates that the main experimental results, such as threshold strategies, comparative statics, and the differences in behavior under public and private information, are robust predictions of limited depth of reasoning models. This is in contrast to equilibrium, which mispredicts the coordinating roles of public and private information. The analysis has implications for understanding macroeconomic phenomena, like currency attacks and debt crises, which are commonly modeled using incomplete information coordinated attack games.

In a global games setup with imperfect commitment technology, we show that low targets—the ones close to the optimal inflation under perfect commitment—are unattainable, leading to a trade-off between low and credible targets. Moreover, since noisy public information helps to coordinate expectations around the announced target, our article supports unconventional policy prescriptions. First, weaker countries need to impose higher targets. Second, less transparency helps to make the announced target credible and then reduces the optimally announced target. Results are based on a general central bank loss function encompassing models traditionally used to discuss central bank decisions.

Crises, such as revolutions and currency attacks, rarely occur; but when they do they typically arrive in waves. The rarity of crises is an important contagion mechanism in a multiple-country dynamic global game model. When players are uncertain about the true model of the world, observing a rare success elsewhere can substantially change their expectations concerning the payoffs from attacking or defending the regime. Such dramatic revisions in beliefs, amplified by strategic complementarity in actions, may lead to a series of attacks in other countries. The crisis period can be long-lasting, but will eventually come to an end. (JEL D74, D83, F33, G01)

We study strategic uncertainty in an investment coordination game when players have the option to delay acting. Absent the option to delay, the global games literature shows that efficient equilibrium outcomes are possible only when they are also risk dominant. In contrast, we show that when delay is not too costly, strategic uncertainty can encourage delay in such a way that efficient investment occurs whenever it is “worth waiting for.”

We analyze how uncertainty about consumers' preferences affects the pricing of a network device and the interaction usage it enables. A premium device price may give high hardware profits, but adoption will be low reducing the profits from interaction services. The firm internalizing this adjusts its hardware price downward, and prices as if it was getting the maximal interaction usage profits from the full network. Profits decrease in uncertainty, whereas consumer surplus increases in uncertainty, but only if the level of uncertainty is high. Bundling the device and services is profitable if uncertainty relates mostly to consumers' private information.

We study costly information acquisition in global games of regime change (that is, coordination games where payoffs are discontinuous in the unobserved state and in the agents' average action). We show that only symmetric equilibria exist and provide sufficient conditions for uniqueness. We then characterize the value of information in these games and link it to the underlying parameters of the model. We investigate equilibrium efficiency, complementarities in information choices, and the trade-offs between public and private information. We show that information acquisition can be inefficient and that strategic complementarities in actions do not always translate into strategic complementarities in information acquisition. Finally, we find that public and private information can be complements. These results contrast findings in linear-quadratic models, where payoffs depend continuously on both the unobserved state and the agents' average action.

In this study, we provide a model of systematic panic among financial institutions with heterogeneous fragility. During a systematic panic, institutions characterized by a higher degree of fragility are more aggressive to withdrawals, and such aggressiveness increases linearly with their fragility. We derive an analytical solution for this linear relationship using a global game framework, and demonstrate that transparency does not always endanger the regime; When the outside option is large, transparency increases the strength of the regime.

This paper proposes a new approach to evaluating banks’ liquidity needs, which is not only well-grounded theoretically, but is also easy to apply practically. Within the framework of a global game with imperfect information, we first establish a boundary condition for bank runs and show that there exists a unique Nash equilibrium for bank runs. Using the option-pricing approach, we then obtain a closed-form formula for the value of bank equity with both run risk and insolvency risk. Finally, a bank's optimal liquidity ratio is derived by maximizing the value of bank equity. Using data on Chinese listed banks, we show that the deviation of the actual liquidity ratio from the optimal liquidity ratio in a bank represents a robust proxy for its liquidity risk. An increased liquidity shortfall leads to worsening liquidity problems, and this is particularly pronounced when the liquidity shortfall is high.

This dissertation addresses two distinct issues. The first paper studies business cycles with asset fire sales under limited commitment in financial markets. Paper 2 and 3 study firm entry and exit dynamics in a global game with incomplete information. The second paper derives analytical solutions when firms’ productivity is uniformly distributed. The third paper extends the analysis to span more general distributions and solves the problem numerically.The first paper develops a stochastic over-lapping generations’ model to study the intertemporal and intergenerational transmission of productivity shocks. Productivity shocks cause fire sales of capital, which in turn affects the income of future generations. From a constrained-efficiency perspective, competitive equilibria can be inefficient as agents' choices in equilibrium exhibit ex-ante over-borrowing. The inefficiency arises because entrepreneurs cannot get fully financed from outside funds due to limited commitment in financial markets. The fact that the capital prices are determined in competitive markets also contributes to the above inefficiency because agents fail to internalize potential ex-post fire sales. A capital requirement policy can reduce fire sales when adverse productivity shocks occur, and can thus increase the income for all future generations. On the other hand, a lower capital stock even when good productivity shocks occur decreases income for all future generations. Overall, this paper shows that in the long run, a capital requirement policy can (strictly) increase welfare of agents.The second paper develops a static general equilibrium model to study firms' entry and exit decision in a global game with incomplete information. Firms' choices are strategic substitutes. This paper analytically proves the existence and uniqueness of a monotonic pure strategy equilibrium when the mean productivity and the productivity conditional on the mean are both drawn from uniform distributions. Using numerical examples, it is shown that when the precision of public information increases, the equilibrium switching productivity level increases and, as a result, the aggregate industry productivity increases. By reallocating resources to more productive firms, an increase in the precision of public information leads to a higher welfare.The third paper extends the problem studied in the second paper to examine whether and how the shapes of productivity distributions affect the existence of the monotonic pure strategy equilibria. The mean productivity is now drawn from a truncated normal distribution and individual firm's productivity conditional on the mean is drawn from more general (truncated) distributions, such as truncated normal, truncated gamma, and truncated exponential distributions. With numerical examples, it is shown that a unique monotonic pure strategy equilibrium continues to exist when firms’ productivity is drawn from non-uniform distributions. As in paper 2, both the aggregate productivity and the welfare per worker increase with the increase in the precision of public information. However, unlike in paper 2, the impact of an increase in the precision of private information on aggregate productivity and the welfare depends on the shape of the distribution. In particular, this impact is uncertain when the productivity conditional on the mean is drawn from truncated gamma distribution, which is skewed.

It is of utter importance for the policy makers, bankers, and investors to thoroughly understand the probability of bank-run (PBR) which was often neglected in the classical models. Bank-run is not merely due to miscoordination (Diamond and Dybvig, 1983) or deterioration of bank assets (Allen and Gale, 1998) but various factors. This paper presents the simulation results of the nonlinear dynamic probabilities of bank runs based on the global games approach, with the distinct assumption that heterogenous agents hold highly correlated but unidentical beliefs about the true payoffs. The specific technique used in the simulation is to let agents have an integrated cognitive-affective network. It is observed that, even when the economy is good, agents are significantly affected by the cognitive-affective network to react to bad news which might lead to bank-run. Both the rise of the late payoffs, R, and the early payoffs, r, will decrease the effect of the affective process. The increased risk sharing might or might not increase PBR, and the increase in late payoff is beneficial for preventing the bank run. This paper is one of the pioneers that links agent-based computational economics and behavioral economics. Published version

This paper studies equilibrium selection in large coordination games played by heterogeneous agents, such as models of bank runs, currency attacks or technology adoption. Player payoffs are affected by the average action and the player’s type, as well as a global parameter reflecting economic fundamentals. I introduce the notion of ex ante risk dominance and show that it coincides with the global games selection in games with payoffs that are separable in average action and type. Ex ante risk dominance provides an economic interpretation behind the global games selection in terms of maximizing ex ante expected payoffs under pessimistic beliefs. I characterize the ex ante risk dominant equilibrium, pinning down the presence of tipping points in terms of economic fundamentals. I also show that payoff separability is needed for the global games selection to be uniform, that is, to be robust to changes in the distribution of signal noise.

In the global games framework, this paper studies bank runs in a financial system, in which there are many banks and they share a common asset market. Our model 1) endogenizes market liquidity, 2) demonstrates two-way feedback between market liquidity and creditor runs, and 3) shows the possibility of multiple equilibria in the system: even when the precision of creditors' private signals approaches infinity, multiple equilibria (i.e., a self-fulfilling systemic crisis) can still emerge. Our model helps explain amplification and multiplicity in financial crises.

This study establishes that a uniform-price mechanism is superior to a discriminatory-price mechanism for preventing momentum ignition price manipulation (MIPM). A financial trading model in which a speculator and dealers can make a profit in equilibrium by exploiting ``momentum'' traders, which is referred to as MIPM, is considered in this study. The main finding is that, if the dealers have different opinions about the existence of momentum traders, price mechanisms matter for preventing MIPM. Under a uniform-price mechanism, there is no MIPM equilibrium when there are a sufficient number of dealers, whereas under a discriminatory-price mechanism, an MIPM equilibrium exists regardless of the number of dealers.

The regulatory framework of Basel III features joint requirements on bank capital and liquidity. I study such requirements by developing a general equilibrium model with bank runs in a global game framework. The model highlights the role of noisy information for studying liquidity and shows that bank runs are inevitable. Risk shifting induces excessive leverage and insufficient liquidity, causing an inefficiently high crisis probability. Imposing one requirement only causes risk migration: banks respond by taking more risk in another area, which warrants joint requirements. The design of the optimal joint requirements depends crucially on the model's general equilibrium effect.

This paper develops a framework for coordination games that accounts for the role of competition. When crowding out is severe, agents no longer find it optimal to coordinate when everyone else participates. Our setup allows for the characterization of equilibrium outcomes when payoffs are subject to any degree of crowding out and presents a set of comparative statics with respect to the substitutability feature. The model highlights the impact of competition in coordination games, wherein substitutability lowers individual payoffs from coordinating. In many common global game contexts, accounting for the crowding out of payoffs changes widely held intuitions on strategies and on policy implications. For example, in the context of speculative currency attacks, selling a currency after receiving a sufficiently bad signal about reserves may no longer be a dominant strategy; in the presence of substitutability, setting a quota on how many speculators can attack may increase the chance of abandoning the peg; currencies with potentially small depreciation but ample liquidity can be subject to more pressure than currencies with potentially large depreciation but low liquidity.